What it means
Confirmations are used most often for bank balances, trade receivables, loans, investments held by third parties and legal claims. The auditor controls the whole process, selecting the accounts, sending requests on their own letterhead and receiving replies directly, because anything routed through the client loses its independence.
Two styles exist. A positive confirmation asks the recipient to reply whether or not they agree, while a negative confirmation asks for a reply only if they disagree, which is cheaper but provides much weaker evidence.
Non response is the everyday problem, since customers have no obligation to help an auditor. When replies do not arrive, the auditor falls back on alternative procedures, typically tracing the balance to cash received after the year end or to signed delivery notes and invoices.
Differences between the reply and the ledger are not automatically errors, and most turn out to be timing related: a payment in transit, a credit note posted after the cut off, or goods invoiced but not yet received. The auditor reconciles each difference and treats only the unexplained remainder as a possible misstatement.
Outside audit, the same word covers routine business confirmations such as a trade confirmation from a broker or an order confirmation from a supplier. The principle is identical: an independent written record of what was agreed, created close to the event itself.
Coverage is the measure used to judge whether enough of a balance has been tested. Auditors normally target the largest accounts first, because confirming a small number of big balances can verify most of the ledger value while leaving the long tail to other procedures.
In practice
Real-world examples.
Example
An auditor sends bank confirmation requests to all six institutions a group deals with and discovers a $400,000 overdraft facility secured on inventory that was never disclosed in the draft accounts. The disclosure note is amended before the accounts are signed.
Example
A retailer's auditor uses negative confirmations for 2,000 small store credit accounts because each balance is immaterial and the population is homogeneous. Only nine customers reply to dispute their balances, and each dispute is followed up individually.
Example
A law firm confirms in writing that it holds $85,000 of client money on behalf of a property company and that no litigation is pending against it. That single letter supports both a balance sheet figure and a contingent liability disclosure.
Think of it
“Confirmation is getting verification directly from outside parties-third-party evidence.
Formula
Calculation
Confirmation coverage = value of balances confirmed / total balance x 100
An auditor is testing a receivables ledger of $6,000,000 spread across 400 customers. She selects the 25 largest accounts, which together total $4,500,000, giving coverage of $4,500,000 / $6,000,000 x 100 = 75%.
Replies come back for accounts worth $4,200,000, of which one customer reports owing $180,000 against a ledger balance of $210,000, a difference of $30,000 traced to a credit note issued after the year end. For the remaining $4,500,000 - $4,200,000 = $300,000 of unanswered requests, the auditor inspects cash received in the following month and clears the full amount that way.Case study
Seen in the real world.
The following is an illustrative and entirely fictional example. Deepmoor Components, an invented parts distributor, showed receivables of $9,000,000 at its year end, up sharply from $6,000,000 the year before, and management explained the rise as a strong final quarter. The auditor sent positive confirmations covering $7,200,000 of the balance, or 80%.
Replies covering $6,300,000 agreed without adjustment, but three customers representing $900,000 replied that they had ordered goods on a sale or return basis and had not accepted the invoices at all. Alternative procedures on the unanswered requests found no cash received after the year end for those accounts either.
In the fictional outcome, $900,000 of revenue was reversed and the accounts were restated before publication. Deepmoor's board then required the sales team to record consignment arrangements separately, and the confirmation process, which the finance director had previously called a formality, became the control that caught the problem.
Watch out
Common mistakes.
- Letting the client post the confirmation requests or receive the replies, which destroys the independence that gives the evidence its value.
- Treating every difference between a reply and the ledger as an error, when most are timing differences that reconcile cleanly.
- Relying on negative confirmations for large or unusual balances, where silence is far too weak to prove anything.
Questions
People also ask.
What happens if nobody replies at all?
The auditor performs alternative procedures such as checking cash received after the year end, and only escalates if those cannot support the balance either.
Is an emailed confirmation acceptable?
Generally yes, provided the auditor can satisfy themselves about the sender's identity and authority, which is why replies from a generic address are often followed up.
Does a confirmation prove the debt will actually be paid?
No, it proves the balance exists and is agreed; recoverability is assessed separately through ageing analysis and the bad debt provision.
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